RBI cuts repo rate by 35 bps to 5.40%; flags growth worries

Reserve bank of India

The Reserve Bank of India (RBI) on August 7 cut the repo rate—its key lending rate—by 35 basis points to 5.40 percent and kept the door open for lowering rates further by retaining an “accommodative” policy stance, but flagged worries over weakening growth prospects.

This was the fourth repo rate cut in as many policies since February 2019. This is also the first time when the benchmark lending rate has been changed by range other than multiples of 25 basis points. This signals a major departure from the prevailing practice, when the central bank had only lowered or raised rates in multiples of 25 basis points.

“There is nothing sacrosanct about 25 basis points or its multiples thereof,” RBI governor Shaktikanta Das said during the post-policy press conference.

One basis point is one-hundredth of a percentage point.

The six member Monetary Policy Committee (MPC), headed by Das, however, saw emerging worry lines on the broader economy’s growth prospects, punched by sluggish consumption and investment activity.
The RBI now expects India’s real or inflation-adjusted gross domestic product (GDP) to grow at 6.9 percent in 2019-20, lower than 7 percent it had projected in June.

“Various high frequency indicators suggest weakening of both domestic and external demand conditions. The Business Expectations Index of the Reserve Bank’s industrial outlook survey shows muted expansion in demand conditions in Q2 (July-September), although a decline in input costs augurs well for growth,” the RBI’s monetary policy statement said.

Muted household spending as reflected in metrics such as falling car sales have resulted in a pile up of unsold inventories and rising unused capacities in factory plants mirror slackening demand and feeble investment.
With inflation decisively tamed for the next 12 months, the RBI appears to have indicated a change in its focus to aid investment revival.

“Even as past rate cuts are being gradually transmitted to the real economy, the benign inflation outlook provides headroom for policy action to close the negative output gap. Addressing growth concerns by boosting aggregate demand, especially private investment, assumes the highest priority at this juncture while remaining consistent with the inflation mandate,” the statement said.

Automobile showrooms have not been reporting brisk activity, implying lower spending ability and flat income growth. Tractor and motorcycle sales – indicators of rural demand – continued to contract. Passenger vehicle sales contracted for the eighth consecutive month in June, although domestic air passenger traffic growth turned positive in June after falling for three consecutive months.

Commercial vehicle sales slowed down even after adjusting for base effects, mirroring how stocks aren’t moving rapidly across the country to fill shop shelves beaten by low demand. Construction activity indicators slackened, with contraction in cement production and slower growth in finished steel consumption in June. Import of capital goods – a key indicator of investment activity– contracted in June.

“Since the last policy (in June), domestic economic activity continues to be weak, with the global slowdown and escalating trade tensions posing downside risks. Private consumption, the mainstay of aggregate demand, and investment activity remain sluggish,” the statement said.

The MPC expects the inflation genie to remain firmly bottled up, and well within the central bank’s comfortable 4 percent range. Retail or consumer price index (CPI)-based inflation, the main price gauge that the central bank tracks for interest rate decisions, is projected at 3.1 percent during July-September 2019 and at 3.5-3.7 percent during October-March 2019-20. CPI inflation for April-June 2020 is projected at 3.6 percent.

The MPC, however, sounded a few caveats, including a possible rise in food inflation, particularly vegetables and pulses. “Uneven spatial and temporal distribution of monsoon could exert some upward pressure on food items, though this risk is likely to be mitigated by the recent catch up in rainfall,” it said.

Also, despite excess supply conditions, crude oil prices may likely remain volatile due to geo-political tensions in the Middle-East. The RBI’s outlook for CPI inflation excluding food and fuel also remains soft.

Four members (Ravindra H. Dholakia, Michael Debabrata Patra, Bibhu Prasad Kanungo and Shaktikanta Das) voted to reduce the policy repo rate by 35 basis points, while two members (Chetan Ghate and Pami Dua) voted to reduce the policy repo rate by 25 basis points.

News Source: Moneycontrol

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